The Oil Investment For The Long Haul

Conoco-Philips started the ball rolling with 3rd quarter reports yesterday and most of the analysts buried the lede. Yes, there was a minor beat on earnings, but that was hardly the story that needed highlighting; it was the continued reduction of capex guidance, down 6% from Q2 reports, that has indicated a very, very critical trend for oil companies and oil's price going forward from here.

I have written in the past with much frustration about oil companies "lemmings-like" behavior. To quickly recap, oil companies were being rewarded for years by stock analysts and the markets by one measure of progress only - production increases. As oil cratered in mid-2014, oil companies were slow to realign this strategy; Instead, cutting top line spending while maintaining production growth in core holdings, whether those were conventional, non-conventional or off-shore assets.

The theory among oil companies was that the turn down in oil prices was a very temporary one, and when prices inevitably (and quickly) rebounded, they would be on track to be best rewarded (just as they always had) with ever increasing crude oil production. Obviously it didn't happen in 2015. Suddenly in 2016, oil companies believed that the worst was surely behind them and they prepared to re-ramp capex upwards to 'pre-bust' levels. But the markets foiled their plans again - and oil prices couldn't recover in 2016 either.

This year, oil executives have apparently seen the light of markets that won't cooperate. They have spoken - again almost as a unified group - on strategies to bear oil prices of $40 or $50 a barrel that might last forever. They have concentrated on efficiencies and core projects that are generating positive returns, and jettisoning negative ones. "Breakeven price" is the new watchword for the majors and Anadarko petroleum signaled this new trend among them in September, promising shareholders return on equity and buybacks to deliver value, and not just mindless production increases.

We were most interested on whether the majors would be following along on this strategy along with Anadarko, and yesterday's COP report confirmed it: Capex was dropped for the second time this year, originally $5 billion, it was trimmed to $4.8 in the 2nd quarter and again trimmed to $4.5 billion. In addition, they promised that their $16b of asset sales from their own jettisoning of non-core assets would be used for share buybacks and debt reduction. The markets reacted positively with shares of COP up more than 3 percent as of this writing.

I expect similar lines from Exxon-Mobil and Chevron Friday as you're reading this.

BUT HERE'S THE MOST IMPORTANT POINT - OIL COMPANIES ARE WRONG AGAIN.

I don't mean they're wrong in restraining growth and concentrating on profitability in core assets. I've been waiting for three years for them to figure that out. I mean they're wrong in doing it in preparation for an oil price that won't ever rebound above $100 a barrel again.

It is of course this kind of intelligent business strategy that the oil companies are now employing that will pave the way for a fast - very fast - re balancing of global oil supply. Combine that with a continued deflation of exploration capex, and you're staring at precisely the prerequisites for a tremendous future supply shortage - the kind that sends oil prices far, far above $100 a barrel.

And THIS is what we've been waiting for - to invest aggressively in oil stocks of companies that have significant core assets and the balance sheets capable of taking advantage of them.

In the names of majors, since those are the names I've been discussing, I still like Total (T). They also report on Friday and with their tremendous spread of well-capitalized assets and their sector leading dividend, they remain my 'no-brainer' oil play for the long-haul.

Keep your eye on these reports as they come in and focus on spending, not on EFS beats or misses. That's where the real story is.